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2018 DRR Financing 2.3 Henning Ludolphs

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ILS Market and Transfer of Financial Disaster Risk to Global Investors

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2018 DRR Financing 2.3 Henning Ludolphs

  1. 1. and transfer of financial disaster risk to global investors Henning Ludolphs, Managing Director Hannover Re, Retrocessions & Capital Markets DRR financing workshop Istanbul, 4 - 5 October 2018 ILS market
  2. 2. ILS market Catastrophe bonds Collateralised reinsurance Trends Disaster finance Disclaimer This presentation does not address the investment objectives or financial situation of any particular person or legal entity. Investors should seek independent professional advice and perform their own analysis regarding the appropriateness of investing in any of our securities. While Hannover Re has endeavoured to include in this presentation information it believes to be reliable, complete and up-to-date, the company does not make any representation or warranty, express or implied, as to the accuracy, completeness or updated status of such information. Some of the statements in this presentation may be forward-looking statements or statements of future expectations based on currently available information. Such statements naturally are subject to risks and uncertainties. Factors such as the development of general economic conditions, future market conditions, unusual catastrophic loss events, changes in the capital markets and other circumstances may cause the actual events or results to be materially different from those anticipated by such statements. This presentation serves information purposes only and does not constitute or form part of an offer or solicitation to acquire, subscribe to or dispose of, any of the securities of Hannover Re. © Hannover Rück SE. All rights reserved. Hannover Re is the registered service mark of Hannover Rück SE.
  3. 3. ILS market Catastrophe bonds Collateralised reinsurance Trends Disaster finance Performance of different market segments 1 Relative Performance Cat bonds have historically shown a good performance with a low volatility 0% 50% 100% 150% 200% 250% 300% 350% 400% 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015 2016 2017 2018 MSCI World Index Swiss Re Catbond Index Barclays BB Corporate Bond Index ILS market
  4. 4. ILS market Catastrophe bonds Collateralised reinsurance Trends Disaster finance Catastrophe bonds: Strong impact from the financial crisis ... 0 2 4 6 8 10 12 14 1994 1996 1997 1998 1999 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015 2016 2017 2018 Thousands New issuance volume per year in bn. USD ... however, the market has recovered 2 First catastrophe bond ever issued by Hannover Re Until 2005: “Boutique market”, only small group of investors Significant volume of new money enters the ILS market Many investors leave the market New record Catastrophe bonds
  5. 5. ILS market Catastrophe bonds Collateralised reinsurance Trends Disaster finance  More complex and time consuming  Less flexible  Only one limit available over the term  Structured release of collateral  Still relatively small market  Requires specific expertise  Sufficient capacity available (if price is right)  Very low counterparty credit risk ( reduced capital charges)  Diversification of reinsurance capacity  Multi-year transactions  Access to reinsurance market  Diversification Pros and cons of catastrophe bonds 3  Usual quantities: USD 100 m. - 300 m. per issuance Different perspectives of sponsors and investors Originator’s perspective Investor’s perspective Catastrophe bonds
  6. 6. ILS market Catastrophe bonds Collateralised reinsurance Trends Disaster finance Type of catastrophe risks 4 Europe Wind 332 Japan 2,947 Life 1,685 Multi-Peril 7,967 US Earthquake 3,635 US Hurricane 3,591 US Multi-Peril 7,607 Other 1,813 Total Volume ~ 30 bn. Catastrophe bonds outstanding as of December 2017 in million USD US dominates Hannover Re data base Catastrophe bonds
  7. 7. ILS market Catastrophe bonds Collateralised reinsurance Trends Disaster finance ILS market participants 5 A large number of different parties Market participants Sponsor/ protection buyer Reinsurer (Large) Insurer (Non-) Government Institution Placement agent InvestorBroker Transformer Modelling agency Legal firmsRating agency Index provider Hannover Re3 Munich Re1 Tokio MilleniumRe2 Reinsurance broker: AonBenfield, GuyCarpenter, JLT, Willis, etc. Banks: BNP, Citibank, Goldman Sachs, etc. (Re-)insurers Hedge funds Pension funds Dedicated ILS funds AIR RMS Perils PCS S&P A.M.BestFitch Swiss Re1 Allianz Risk Transfer2 1: Catastrophe bonds; 2: Collateralised reinsurance; 3: Both Catastrophe bonds
  8. 8. ILS market Catastrophe bonds Collateralised reinsurance Trends Disaster finance Variety of trigger mechanism 6  The attachment point is most often defined as indemnity trigger • Payment is determined by the actual loss suffered by the sponsor  However, in order to allow an easy and full understanding of the risks and a quick evaluation of the loss there are synthetic triggers as follows: • Parametric (geophysical index) − Payment is determined by using geophysical parameters of the actual event (e.g. wind speed, location of hurricane, magnitude and location of EQ, etc.) • Industry loss index − Payment is determined by using an aggregate industry loss index (e.g. PCS or PERILS) • Modelled loss − Payment is determined by the application of a third-party model to the portfolio of exposures, fixed in advance, using parameters of the actual event  Basis risk generally reflects the possibility that a catastrophe bond with a synthetic trigger may not be partially or fully triggered (for covered perils) even when the sponsor of the catastrophe bond has suffered a loss Some entail basis risk Catastrophe bonds
  9. 9. ILS market Catastrophe bonds Collateralised reinsurance Trends Disaster finance ILS market: More than catastrophe bonds 7 Strong growth of Collateralised Reinsurance 8 3 4 5 4 6 8 9 7 7 12 12 9 13 12 9 9 10 13 15 17 18 18 23 1 1 2 6 10 16 22 30 36 45 55 60 18 17 18 20 24 33 43 54 60 70 85 95 0 10 20 30 40 50 60 70 80 90 100 2007 2008 2009 2010 2011 2012 2013 2014 2015 2016 2017 2018 New issuances Outstanding catastrophe bond volume excl. new issuances Collateralised Reinsurance ILS market volume in bn. USD Hannover Re data base  We assume that in addition investors will invest in ILWs of 3 - 5 bn. USD p.a. Collateralised reinsurance
  10. 10. ILS market Catastrophe bonds Collateralised reinsurance Trends Disaster finance  Trust account or LOC negotiations  Collateral release needs to be agreed on  Not tradable  (Almost) same as traditional reinsurance  Additional capacity  Investor provides collateral  Another route to insurance-based risks  Covers wider non-life reinsurance spectrum Collateralised reinsurance - strong growth 8  Range of risks transferred to capital markets is larger than in catastrophe bond space  Usual quantities: ~ USD 2 m. - 5 m., but could go up to USD 100 m. in some cases  Suitable only for short-tail risks Reinsurance contracts with the limits being collateralised Originator’s perspective Investor’s perspective Collateralised reinsurance
  11. 11. ILS market Catastrophe bonds Collateralised reinsurance Trends Disaster finance ILS market 9  Catastrophes 2017 • ILS market has proven to be stable and losses did not have a negative impact on investor’s ability to renew business at January 1, 2018 • Catastrophe bond investors only lost 2-3% of their investments − e.g. total loss of a Mexican earthquake bond of USD 150 m. • On the collateralised reinsurance side approx. USD 10 – 20 bn. (or 20% – 30%) were lost (difficult to make precise judgements) • Lost money has not only been reloaded by new money but new inflow even exceeded losses  Significant ILS money comes from pension funds which invest through dedicated ILS funds • More money is sitting on the side ready to be allocated to ILS  Investors’ supply does not seem to find corresponding demand from reinsurers’ buyer perspective  Substantial increase in collateralised (re)insurance business Current trends and developments Trends
  12. 12. ILS market Catastrophe bonds Collateralised reinsurance Trends Disaster finance Sponsor‘s (government‘s) perspective  Quick money for first aid  Help the uninsured  Rebuild infrastructure Parametric/Index-based disaster finance protection 10 Quick payouts after a natural catastrophe + Investor‘s perspective  Diversifying risk  Index based Catastrophe bond investors require a (reliable) model for the risk  Protect sovereign rating  Offset loss in tax income  Avoid budget reallocations Disaster finance
  13. 13. ILS market Catastrophe bonds Collateralised reinsurance Trends Disaster finance Disaster Finance 11 Examples of parametric /index-based catastrophe bonds Mexico  2017 EQ/HU USD 360 m.  2015 EQ/HU USD 315 m.  2009 EQ/HU USD 190 m. Chile/Colombia/Mexico/Peru  2018 EQ USD 1.360 m. Disaster finance
  14. 14. ILS market Catastrophe bonds Collateralised reinsurance Trends Disaster finance Disaster finance 12  Romania has already installed a mandatory system for people to buy earthquake coverage  A disaster finance cover would allow quick access to cash (first aid, help the un/underinsureds, rebuild infrastructure, cover tax holes, protect sovereign rating) Functioning: Example Romania B A For illustration purposes only Disaster finance
  15. 15. ILS market Catastrophe bonds Collateralised reinsurance Trends Disaster finance Disaster finance (cont'd) 13  A payout scale is created to protect the key zones Functioning: Example Romania Magnitude A B Bucharest <6.5 0% 0% 0% ≥6.5 0% 0% 50% ≥7.0 50% 75% 75% ≥7.5 100% 75% 100% ≥8.0 100% 100% 100%  Location of earthquakes and magnitude factors are combined to determine payout A B  Trigger parameters* • Attachment probability: 3.35% • Expected loss: 2.25% • Exhaustion probability: 1.00%  Example: 7.6 magnitude EQ • in Box A leads to 100% payout • in Box B leads to 75% payout • less than 30km away from Bucharest leads to 100% payout For illustration purposes only * Numbers based on models provided by AIR Worldwide Disaster finance
  16. 16. Thank you for your attention.

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